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Consumer Credit And Debt Market Assessment 2006
Key Note Publications Ltd, April 2006
The popular press is dominated by stories of highly indebted groups of individuals, with large levels of credit on multiple credit cards and loans they should not have been granted. The annual reports of banks are beginning to show an increase in provisions for bad debt, and they are now offering high interest rates on savings, instead of personal loans. However, despite the fact that consumer credit may no longer be as attractive a proposition as it was, consumer borrowing continues to rise, and more lenders are entering the market.
In 2002, the Department of Trade and Industry (DTI) set up its working party on overindebtedness. However, the problem has not gone away and, in 2005, statistics relating to indebtedness in the UK show that the problem is continuing to worsen, as more people carry even higher levels of debt. Academic economists argue whether this is, on average, better for the economy, since many of the worst debtors have high incomes, or worse for the economy when the personal difficulties of those for whom debt becomes too much lead to greater insecurity and an aversion to spending.
Consumer credit is supplied by a combination of banks, building societies, finance houses, insurance companies and retailers. Banks continue to dominate the lending market, but increasing competition from other specialised lenders will lead to a greater variety of loans that are often focused on niche borrowers with debt problems (sub-prime lending). These lenders are often subsidiaries of banks, including those of US banks. US institutions have greater experience in dealing with sub-prime lending, as the US market for loans is much larger than the UK market. UK banks are offering competitive interest rates on personal loans, to encourage those who do not have excessive debt levels to borrow more.
Building societies have a very small share in the credit market, but their performance is robust. Retailers have a shrinking share of the market, and their credit products are often outsourced to the major banks as mainstream credit cards.
Enthusiasm for credit cards has peaked, and consumers rely increasingly on debit cards for their purchases. In addition, banks are becoming more cautious about extending credit cards to customers with lower levels of income and lower credit scores.
Following the preliminary report of the Competition Commission on store cards, Key Note anticipates that there will be some pressure on the retail industry to reduce its charges. The Consumer Credit Bill will lead to greater freedom to borrow larger amounts of money on an unsecured basis, coupled with greater insistence on clear interest rates.
Although credit cards may have peaked, competition for the remaining market is increasingly intense between the banks, their affiliates and partners in supermarkets and other large outlets, and other providers offering better terms, such as American Express, Citibank and Morgan Stanley. The sector is highly profitable in relation to other areas of financial services in the UK.
In times of low inflation, debt takes longer to pay off because the value of the fixed debt is not eroded by the rise in nominal prices and wages. As such, borrowers are more vulnerable to economic shocks such as unemployment, although the actual number of unemployed persons in the UK is relatively stable.
Suppliers of credit, notably the largest banks, have made significant profits in recent years, and continue to prosper in stable financial conditions. They are responding to the increase in defaulting borrowers by increasing their provisions for bad debts in the coming year. Some are more likely to be hit than others, largely as a result of their preference for market share over profitability. Sub-prime lenders, door-step lenders and pawnbrokers are likely to increase their share of the market, as mainstream lenders become stricter. However, many see the UK market as becoming more difficult and are focusing on foreign financial markets to provide them with the organic growth they need to maintain shareholder value and build market share globally.
Exclusive consumer research conducted for this report reveals that, for a significant minority (21.7%), debt is a worry, although the highest proportion of respondents (88.5%) believed that it is far too easy to get credit. This figure may prove worrying for the consumer credit industry.
Debt will be tackled by a combination of methods, but it is unlikely that the UK market will be required to cap interest rates by law. (70.2% of respondents to Key Note's survey agreed that the Government should cap interest rates charged by lenders.) Lenders who charge high interest rates may be examined.
Regulatory change in order to moderate interest rates, and to ensure that the consumer is fully informed about the implications of credit, is likely both at European and UK levels. The deliberations of the Competition Commission, and reports from the Office of Fair Trading (OFT), may lead to legislation that ensures a more competitive market. The Competition Commission report on store cards in early 2006 has been delayed, and other enquiries will follow its report. Although consumer credit will remain a highly profitable industry, the immediate future is uncertain.
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